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INVOICE FACTORING FOR CASH FLOW & IMMEDIATE WORKING CAPITAL
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7 Park Avenue Financial
South Sheridan Executive Centre
2910 South Sheridan Way
Oakville, Ontario
L6J 7J8
Factoring and Working Capital in Canada. We’ve been mesmerized lately by our favourite new saying - The Past Is a Foreign Country. They Do Things Differently There! It’s from the novel ‘The Go-Between ‘. Can it pertain to Canadian Business Financing and access to working capital ? We think so! Let’s dig in.
UNDERSTANDING THE COST OF CREDIT
The cost of credit is the cost of not taking credit terms extended for business financing. When Canadian business owners extend or receive business credit the credit terms are expressed as the amount of discount that is given for prompt payment, when the prompt payment discount expires, and when the invoice is due. These days it's not unusual, unfortunately, to have clients stretch your invoices from 30 to 90 days. Your payment terms and ability to turn over receivables is key. Financing the balance sheet via current asset monetization is a winning formula. The overall credit quality and liquidity in your a/r base is what cash flow success is all about.
AN EXAMPLE OF A FACTORING TRANSACTION
Let's look at an example. We might say that we are being offered 2% ten, net 30. What does that mean? It means that if we pay the invoice in 10 days we can subtract 2% of the invoice amount for our payment. We can assure you that your supplier if it is your firm being offered the discount truly means ten days! Not take 2% and pay in 30 days as some try to do. (Those discounts are charged back.)
HOW DOES FACTORING WORK?
Let's work through an example. Supposed you are being offered 9000.00 of credit on 2% ten net 30 days. You can either pay 9000.00 x 98% = 8820$ in ten days or of course, as we have noted, pay the full 9000.00 in 30 days. If your company is in a position to take the discount you can save a significant amount on your purchase price from that supplier.
If you wait the full 30 days you effectively borrow 8820 for 20 days, paying 9000 - 8820, or 180$ of interest.
So what is the 'credit cost' in borrowing this money? The calculation is done as follows:
Credit cost = % discount / 100-%discount x 360days/ credit period - discount period.
If you work through the numbers in our example the credit cost = 36.7%.
As our example shows, the annual percentage cost of being offered a 2 % 10 day/ net 30 days scenario is almost 37%. Remember also that this discount is continually offered, so it was offered 18 times a year the effective annual credit cost is 43%!!
SELLING ON CREDIT TERMS
Selling on credit is an accepted and important part of business. From the customer perspective it's a source of financing because you receive goods or services that you don't have to pay for until a specific future point in time, usually 30 days more often than not. As business grows between a supplier and customer the amount of financing being extended or taken grows.
WORKING CAPITAL FACTORING SOLUTIONS ARE MORE POPULAR THAN EVER
So what is the final point of interest in our article? It is as follows. More and more Canadian firms are looking at factoring companies and working capital financing facilities outside of bank financing. If our business could pay cash for goods and services we would take the discounts and arrange with our bank to allow us to pay for everything in Cash!
Unfortunately, our balance sheets and income statements don't allow us to generate those sorts of bank facilities.
Factoring is the immediate sale of our accounts receivable for cash. It also can cost anywhere from 1 - 2 % per month in 'discount fees' that are taken by the factoring firm. That fee is often misunderstood as an interest rate, which it is not.
IS FACTORING EXPENSIVE?
Is that expensive? Yes. And maybe not! Because as we have seen if we can sell our receivables immediately for cash and then take supplier discounts we can offset a large portion, ( maybe all ) of the financing costs. Oh, and by the way. Confidential A/R finance allows you to regain and maintain total control over your own business. You bill, collect and still get the cash flow you need.
SOME KEY BENEFITS OF FACTORING
That allows us to be in the best of stead with our suppliers - We have the cash to pay our bills and we receive immediate cash for our invoices. In a high growth scenario that's worth its weight in gold so to speak! Factoring can serve the dual purposes of generating significant cash flow and receiving significant price or payment discounts from our preferred major suppliers.
CONCLUSION
That is a winning cash flow combination via factoring services! So, yes, times are changing in business finance. It’s not the past. Seek out and speak to a trusted, credible and experienced Canadian business financing advisor who can assist you with your cash flow needs.
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Stan Prokop
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